SEATTLE (Reuters) - Microsoft Corp's (MSFT.O) board faces a lawsuit over the way it handled an error with its Internet Explorer browser that ended up costing the company a record-breaking $731 million fine by European antitrust regulators.

The lawsuit, brought by shareholder Kim Barovic in federal court in Seattle on Friday, charges that directors and executives, including founder Bill Gates and former Chief Executive Officer Steve Ballmer, failed to manage the company properly and that the board's investigation was insufficient into how the miscue occurred.

The legal action is the first to emerge from a humiliating episode for Microsoft, which the software company has never fully explained and has accounted for only as a "technical error."

In March last year, the European Union levied its largest ever antitrust fine against Microsoft for breaking a legally binding commitment made in 2009 to ensure that consumers in Europe had a choice of how they access the internet, rather than defaulting to Microsoft's Internet Explorer browser.

Its investigation found that updated software issued between May 2011 and July 2012 meant that 15 million users were not given a choice. It was the first time the European Commission, the EU's antitrust authority, handed down a fine to a company for failing to meet its obligations.

In her lawsuit, Barovic says she asked Microsoft's board to fully investigate how that mistake occurred and to take action against any directors or executives that had not performed their duties. She says Microsoft replied that it found no evidence of a breach of fiduciary duty by any current or former executives or directors.

In a statement on Friday, Microsoft repeated that stance.

"Ms. Barovic asked the board to investigate her demand and bring a lawsuit against the board and company executives," said an emailed statement from Microsoft. "The board thoroughly considered her demand as she requested and found no basis for such a suit."

The problem on European computers prevented the so-called "ballot" screen from appearing. Sources close to the company have said it was connected to updated Windows 7 software.

Ballmer, who was CEO at the time, and Steven Sinofsky, then the head of the Windows unit, both had their bonuses cut in 2012 after the error came to light.

The case is Barovic v Ballmer et al in U.S. District Court, Western District of Washington, No. 14-00540

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